Windstream does it again.

November 3, 2009

Windstream (WIN) has just announced that they are acquiring yet another phone company, NuVox, for 280 million in cash, about 180 million in stock, and 180 million in assumed debt, total 640 million. 

NuVox focuses specifically on business, which makes it a desirable fit with Windstream’s plan to offset landline loss with high revenue customers. NuVox claims to produce $115 million in “adjusted” earnings, the adjustment being to smooth out nonrecurring charges and to put $80 million in depreciation and amortization back in. So, as adjusted the purchase has a P/E ratio of 5.6, but eliminating depreciation and amortization charges is an old trick invented in the 80s to make mergers and buyouts look more attractive, and it didn’t work then. And yet, most phone companies have depreciation charges that exceed their capital expenditures so not all of the $80 million may have to be put back in. Of course, since NuVox is private I have no concrete information to work with. Windstream also claims that the combined firm will have $30 million a year in synergy, but for synergy the wise investor says “I’ll believe it when I see it.”

accretion_mpowen_fullIn addition to being a good strategic fit, management claims that the acquisition will be accretive to cash flow. Accretiveness to cash flow is the easiest thing in the world: just buy a company with a lower P/E ratio than yours. And, if you put all the depreciation back in and indulge management’s view of $30 million in synergy, (canceling one optimistic assumption with one pessimistic one about depreciation), you get a P/E of 11, which is a little bit below WIndstream’s unadjusted trailing P/E ratio, but of course Windstream’s cash flow is significantly higher. So, the actual accretiveness is up in the air.

In terms of strategic fit, I keep thinking back to those Fairpoint rumors. Fairpoint had a market that was almost completely unsaturated with profitable high speed services, and their intention was to fill that gap in the market, thus earning sufficient profits to pay off the ridiculous debt they took on to make the purchase. Of course, they were too busy dealing with integration issues to make any headway, forcing them into bankruptcy. With this acquisition, much of the penetration work has presumably been done, thus making Windstream’s post-merger work easier, but also entitling NuVox to a premium in its purchase price.

In the final analysis I am neutral towards this merger, since unless the depreciation is in fact greatly in excess of the capital expenditures I’m not convinced that Windstream is getting anything that hasn’t been paid for in full.

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